How the Gaming Industry Is Getting its Head Chopped Off

Alexander is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

The E3 gaming conference is one of those things that almost every teenager looks forward to. It’s a more popular trending topic than Megan Fox. In the past month alone, according to Google AdWords, Xbox got 45.5 million searches; comparatively Megan Fox got 4 million. Guess we know what’s going through the minds of young adults these days.

I believe that there are three companies in the video gaming industry that will lose a lot of money in the immediate future.

GameStop a dying business

GameStop (NYSE: GME) could be in a serious trouble going forward. For now, the company was able to avoid a complete disaster from the coming revolution in digital technologies. Both Sony and Microsoft will support used games. Even so, the company is hardly out of the woods yet.

Source: Statista

Going forward it is highly probable that physical video game sales will continue to decline at an even faster rate. This is because of online video game distribution. Services like the PlayStation Network and Xbox Live will sell digital copies of video games, and with Internet speeds increasing, buying at home could become the norm.

In the upcoming console generation, the PlayStation Plus and Xbox Live will be giving gamers two free games a month in order to help justify a membership to play online. This will further diminish the demand for physical video game disks, making it that much more difficult for GameStop in the future.

In the past four years physical video game demand has declined by 35%. GameStop is hoping to address this with the launch of its online video gaming store, but I see no way in which the company will be able to offset the losses from physical disc sales.

Source: GameStop

GameStop has had a lot of difficulty in its most recent quarterly earnings release, with new video game hardware, new video game software, and pre-owned video games all reporting declines. Going into the holiday season with the release of the PlayStation 4 and Xbox One, the amount of money made from new system hardware should improve.

Even with a pent-up product refresh cycle, analysts on a consensus basis anticipate the company to report a 1.3% year-over-year decline in earnings. The good doesn’t offset the bad in this stock.

The end of MMORPG’s

Activision Blizzard (NASDAQ: ATVI) is in for some trouble. Over the past several years, the demand for its World of Warcraft franchise has consistently declined. In 2008, the number of World of Warcraft subscribers peaked at 12 million. In the first quarter of 2013, the number had dropped to 8.3 million. The decline in demand for World of Warcraft will continue because of changes in revenue models. Currently paid-for-winning is on the rise, a concept where players in a multi-player game can buy in-game features that allow them to better compete with their friends. This means that video gaming will become more about the size of a player’s real-world pocket book rather than in-game skill.

Activision Blizzard also faces competitive headwinds with its Call of Duty titles. For a while, the shooter franchises were dominated by Call of Duty, but now the Battlefield franchise has been giving the company some difficulty. Battlefield 4 will be coming to both PlayStation 4 and Xbox One on October 29 in the United States. Call of Duty: Ghosts will be released on November 5. Activision Blizzard’s next blockbuster franchise is being released six days after the launch of Electronic Art’s sequel to Battlefield. This means that a gamer’s budget will be used on Battlefield 4 just because it was released six days earlier than Call of Duty: Ghosts.

Being six days late could cost the company a lot of money. This is why teachers send kids to detention when they’re tardy for school.

This is going to be a tough year for Activision Blizzard. Analysts on a consensus basis anticipate the company to report a 28% decline in earnings for fiscal year 2013.

Social gaming heading south

Zynga (NASDAQ: ZNGA) is heading for the shark pit. This company has difficulty with retaining video gamers on its platform. The company hopes to turn around the decline in demand by releasing its portfolio of games on mobile. Zynga is basically banking on the growing adoption of smartphones in order to stimulate demand for its games.

There is almost no barrier of entry to developing video games for application stores. This means that the market for mobile video games will be crowded. Small teams of video game programmers all over the world will eat away at the demand for Zynga’s portfolio of games.

Over the past year, the monthly active user figure has declined from 306 million to 253 million. The decline in its user base may be off-set by some mobile users, but because the company already operates on such large a scale, it’s doubtful that the lost demand from social networks will be off-set by the increasing demand in mobile. Zynga’s games reach a market saturation point and hit the decline phase of demand in a relatively short period of time. Analysts on a consensus basis anticipate the company to report a 171.40% year-over-year decline in earnings.

Conclusion

GameStop and its legacy business model would need to be changed in order for the company to stay in business. Activision Blizzard is being hit by a wave of competition lowering the overall appeal of playing World of Warcraft. It is highly likely that the user base of World of Warcraft will continue to decline unless the company were to release World of Warcraft on Xbox One and PlayStation 4 in order to extend the life cycle of the franchise. Zynga is in serious trouble as there is no barrier of entry into the mobile space, which is something the company is depending heavily upon in order to grow earnings.

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Alexander Cho has no position in any stocks mentioned. The Motley Fool recommends Activision Blizzard. The Motley Fool owns shares of Activision Blizzard and GameStop. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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